Unfortunately, it's not that simple.If you don't do it intelligently, you could wind up with tax problems,
miss an opportunity to put more money in your pocket and jeopardize your chances
of raising equity financing.

Let's assume you've recently incorporated a new
venture.While you develop your new
product, you plan to live off some personal savings, etc.Why not put some money into your corporation so that its balance sheet
looks better, and then pay yourself a "modest" salary?

Why not?Because
by doing so, you will expose your money to creditors and have to pay income and
employment taxes on your compensation.And, unless we're talking about a large investment, who in
the world is going to be fooled by a "stronger" balance sheet in your
start-up venture?

Why not just put your money into the company and then
"borrow" it when you need to meet personal obligations?You don't pay income taxes when you borrow money, do you?Well, not usually.But if
the loan is in lieu of salary, your friendly IRS agent may see it otherwise.

We recommend that you don't put your money into the
new venture.Instead, keep most of
the money in your personal account and draw on it to meet your personal needs.

For example, one of our start-up ventures consisted of
four people - each of whom agreed to invest $25,000 in their new venture.Two of the founders were engineers who would quit their jobs immediately
and develop the product over the next eight months; the other two were financial
and marketing types who would keep their day jobs and join the venture full time
when the product was ready.

Instead of having each of them put the $25,000 in and
then pay part of those funds out in salary to the two engineers, we suggested
that each of them invest $5,000 in equity.The financial/marketing founders would each retain their $20,000 portion
and use it to "pay" themselves, outside of the corporation, a
salary-equivalent of $2,500 per month for eight months.In that way they would not pay income taxes on their "salary,"
and they, as well as the corporation, would avoid FICA and FUTA taxes.

While it's true that, if the venture succeeds, the
financial/marketing founders will eventually get their $20,000 loan back and the
engineer-founders won't, these entrepreneurs anticipated that the difference
could be made up with a bonus or other compensation adjustment later on.

That idea of paying a bonus in the future leads me to
another issue: Even if you don't have a lot of money to invest in your business,
don't assume that you can't pay yourself.Sure, you say, I'll just pretend I'm IBM's Lou Gerstner and
tell the company that if they want my services they'll have to pay me big time.Come on, Joe, where am I going to get the money to pay me what I'm worth?

Well, I didn't mean that you would get paid today; but
what about getting paid in the future for what you do during the lean start-up
years?Many founders fail to
distinguish between the ideas and technology that they bring to a new venture,
on the one hand, and the time, talent and effort they invest in getting the new
venture off the ground.Many
founders and investors lump those two separate "functions" together
under the name "sweat equity" - i.e., the founders get their stock for
bringing their bundle of ideas/technology to the table, while the investors get
their stock for the cold hard dollars they supply.But where is it written in stone that the founders should not be
separately compensated for their time/talent/effort - i.e. "sweat?"

Which brings me back to my conversation with Victor
Capatill.V.C. and other investors
will tell you that they want to see their invested dollars going into growing
the business, and not into paying past expenses and salary.In fact, that philosophy is in the interest of the founders also;
presumably, a dollar invested in growing the business will pay off with a larger
"pie" later on.However, if a founder presses the investors a little, he or
she may find that the real issue is simply that they don't want their invested
funds to be paid out now.

V.C. tells me that he is not at all averse to
recognizing the prior "sweat" of the founders - if that recognition is
in the form of "deferred compensation."If the founders accrue (but don't pay) a reasonable salary on
the balance sheet for the period prior to the first outside investors, V.C. and
other investors may not have a problem with the deferred compensation being paid
out in future years.

One final note of caution: If you decide to take the
deferred compensation approach, be sure to check the current tax and accounting
rules.For example, if a deferred
compensation arrangement is "vested,' the IRS will require FICA and FUTA
taxes to be paid today on the deferred amount for past services - even if you
won't get your money until later.In
the past, that sometimes was not a problem, because FICA taxes were not paid on
salary above the FICA base.But
since 1993 the health portion of FICA is required to be paid on all
compensation.

Or, you might opt to take your deferral in the form of
a subordinate note, a note with warrants, or some sort of redeemable equity
security.Know that those all have
tax issues associated with them.Also,
you may want to consider obtaining life insurance to cover the deferred
compensation, as well as to protect the value of your equity interest.

Finally, a word to the wise: Don't go crazy with
deferred compensation.Your balance
sheet will become important if you seek bank financing.And, at some point, potential investors will balk at an extravagant
amount.

What's really at issue is that you have an obligation
to understand your investors' viewpoints, and beyond that, your challenge will
be to manage their perceptions of why you should get your founder's stock and
deferred compensation.

DISCLAIMER: This column is designed to give the reader
an overview of a topic and is not intended to constitute legal advice as to any
particular fact situation. In addition, laws and their interpretations change
over time and the contents of this column may not reflect these changes. The
reader is advised to consult competent legal counsel as to his or her particular
situation